On 8 March 2023, the Dutch Ministry of Finance launched a publication consultation that runs until 5 April 2023 to amend to the Dutch tax entity classification rules for funds for joint account (fondsen voor gemene rekening) and to abolish the Dutch REIT regime. In this publication, our experts elaborate on the mechanics and transitional rules included in the consultation and what to consider looking ahead.
TAX CLASSIFICATION OF FUNDS FOR JOINT ACCOUNT
Current rules – Under the current Dutch tax entity classification rules, a fund for joint account (FGR) can be tax transparent or opaque. An FGR qualifies as tax transparent when its units are not freely transferable, which is the case when the transfer of units in the FGR may only take place after prior consent of all unitholders (i.e., the so-called unanimous consent alternative), or when the units in the FGR may only be redeemed by the FGR itself (i.e., the redemption alternative), or when the units can only be transferred to certain qualifying family members. All other FGRs are considered tax opaque. The Dutch tax entity classification rules that apply to FGRs also apply to foreign entities that are sufficiently comparable (e.g., FCPs and unit trusts).
Proposed rules – Under the proposed amendments, an FGR will only qualify as opaque for Dutch tax purposes when it is considered a regulated investment fund under the Dutch Financial Supervision Act and the participations in the FGR are freely transferable. If the units in the FGR may only be redeemed by the FGR itself (i.e., the redemption alternative), an FGR would still qualify as tax transparent irrespective of whether it is regulated. All other FGRs will be considered tax transparent. The proposed rules are intended to become effective on 1 January 2024.
Transitional rules – The public consultation includes a deemed disposal mechanism for FGRs that are subject to Dutch corporate income tax that shift from tax opaque to transparent as a result of the proposed changes. Under this mechanism, all assets and liabilities held by tax opaque FGRs will be deemed to have been disposed to their unitholders. Unitholders of tax opaque FGRs in turn will be deemed to have disposed their units at fair value. For FGRs and unitholders that are currently subject to Dutch corporate income tax this could lead to exit taxation at a headline rate of 25.8%. The transitional rules include three relief facilities in light of this exit taxation:
- a roll-over facility when all unitholders are subject to Dutch corporate income tax;
- a share-for-share roll-over facility for unitholders subject to Dutch personal income tax, which also includes a temporary real estate transfer tax exemption;
- an instalment facility to pay the exit tax over a period of 10 years.
A&M says – Dutch FGRs are typically used as fund vehicles for investments in real estate, debt and securities. As the unanimous consent alternative is commercially restrictive, most of those FGRs make use of the redemption alternative. Given that such FGRs typically qualify as regulated investment funds under the Dutch Financial Supervision Act, the redemption alternative will need to be continued to mitigate that these FGRs become subject to Dutch corporate income tax as a result of the proposed changes.
Dutch FGRs and comparable foreign entities (e.g., FCPs and unit trusts) that are subject to Dutch corporate income tax and that make use of the unanimous consent alternative should assess the impact of the proposed rules and, depending on the outcome of such assessment, review restructuring options.
The same applies for Dutch FGRs that are currently subject to Dutch corporate income tax and that apply the Dutch fiscal investment institution (FBI) regime. If such FGRs become tax transparent effective 1 January 2024, the FBI-status would be in principle be forfeited.
In an international context, the proposed rules are intended to help eliminate hybrid mismatches by bringing the Dutch tax entity classification of comparable foreign entities (e.g., FCPs and unit trusts) in line with international standards (i.e., tax transparent, whereas the Netherlands would typically view such entities as opaque under the current rules). Anti-hybrid and (conditional) withholding tax positions should thus also be re-assessed. However, comparable foreign entities that are regulated as investment funds and that do not apply the redemption alternative, may still qualify as opaque for Dutch tax purposes under the proposed rules.
In the second quarter of 2023, a separate legislative proposal is expected to be published to, amongst others, abolish the unanimous consent requirement for Dutch and foreign limited partnerships to qualify as tax transparent. Reference is made to our publication 'Dutch Tax Entity Classification Rules: Looking Ahead' for more information.
ABOLISHMENT DUTCH REIT REGIME
Current rules – The Dutch fiscal investment institution (FBI) regime is a Dutch corporate income tax facility that can be applied by listed and non-listed, regulated and unregulated, investment entities. The facility is broader than real estate investments and can, for example, also include securities and debt investments. The FBI regime for real estate investments is referred to as the Dutch REIT regime.
Under the FBI regime, income and capital gains are effectively exempt from Dutch corporate income tax as a 0% rate applies. To qualify for the FBI-status, certain requirements must be met on a continuous basis. These requirements cover the activities, distributions, investors, legal form, financing and governance. Taxable profits have to be distributed within eight months after the end of each fiscal year. Such distributions are in principle subject to 15% Dutch dividend withholding tax. Capital gains can, subject to certain formalities, be distributed free from dividend withholding tax.
Proposed rules – The abolishment of the Dutch REIT regime is intended to become effective on 1 January 2025 and will be implemented by prohibiting entities that want to qualify for the FBI-status from directly investing in Dutch and foreign real estate (and real estate related rights). Investments in Dutch real estate via tax transparent entities (e.g., FGRs or CVs) should also qualify as a direct investment.
Existing FBIs that directly invest in real estate will become subject to standard Dutch corporate income tax at a headline rate of 25.8% for fiscal years starting on or after 1 January 2025. Directly prior to losing the Dutch FBI-status, all (real estate) assets should be re-valued to fair market value. A step-up (or step-down) in this respect should overall be effectively exempt under the FBI-regime.
An FBI may still invest in property owning companies, but may not manage such companies when it holds an interest of (shortly) put more than one-third. Certain real estate related provisions within the FBI regime will be abolished (e.g., the financing limitation for real estate investments) or amended and narrowed (e.g., the provisions regarding property development and ancillary services).
Reference is made to our publication 'Abolishment Dutch REIT Regime: Looking Ahead' for the reasons behind the abolishment.
Transitional rules – The public consultation includes a temporary real estate transfer tax (RETT) exemption to facilitate legal persons (e.g., BVs and NVs) that qualify as an FBI and that are impacted by the abolishment of the REIT regime to restructure into an entity that is transparent for Dutch tax purposes (e.g., an FGR). Under this exemption, the real estate investments held by the FBI can be contributed to such tax transparent entity in exchange for economic ownership (e.g., through issuance of units in an FGR), followed by a transfer of that economic ownership to the shareholders of the FBI. The current RETT rate for investment property is 10.4%. The RETT exemption will apply between 1 January 2024 and 31 December 2024.
Transferring the legal ownership of the real estate investments held by an FBI may still trigger Dutch RETT as no temporary exemption is proposed to cover such transfers. The legal person that currently qualifies as an FBI and that owns the real estate would thus need to remain the legal owner (e.g., as a custodian of a fund for joint account).
A&M says – It is recommended to model the tax cost impact of the proposed abolishment and, depending on the outcome, review viable restructuring options to optimise the tax position going forward.
The temporary RETT exemption and narrowed rules for property development and ancillary services in the public consultation provide additional clarity on what to consider when restructuring existing REITs.
As part of the modelling exercise, the timing of forfeiting the FBI-status (e.g., 2023, 2024 or 2025) should also be considered in light of the expected step-up (or step-down) value of the real estate for Dutch corporate income purposes.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.